Market Based vs. Cost Based Pricing

Or “Are your Prices ‘Competitive’?”

One of the questions we always get is about the ‘competitiveness’ of our pricing. My standard (and frequently perceived as a ‘snarky’ one) response is ‘What do you mean by ‘competitive’?

The two industries that have the highest bankruptcy rates are contracting and non-chain sit-down dining establishments. About 75% of all construction companies (yes, three out of every four) go bankrupt within 3 years. Only one out of twenty (yes, that is 5%) make it past 10 years. The other thing these two industries have is the fact that, to be successful (i.e. NOT bankrupt) they must price based on their cost structure rather than the market (i.e. their competitors).

Why is this? Well lets first look at traditional market-based pricing organizations. These include pretty much every kind of retail you can think of, from car sales to McDonalds. In these industries, there are well defined niches, most manufacturing is performed in central locations with extremely high efficiency, overhead numbers are well defined and market intelligence on pricing is similarly well defined. Everyone knows right away where they need their costs to be, and what kind of profit margins they can expect. They also know consumer price sensitivity, and if the increase their price by 5%, they can project with a high degree of accuracy how much sales they will lose.

The Variables That Affect Cost

Independent sit-down restaurants have lots of variables that affect cost, no two restaurants are alike. They have different locations and landlords, thereby different rental rates; different sources of food with a wide range in quality and cost; different caliber of employee staff with different scales of competency required to perform the work (and different pay scales). When the ownership of one of these restaurant’s feels the need to make their food and beverage’s ‘more competitive’, you can be rest assured that they are not simply able to bring home less money. Their bills for food, clothing and shelter is not scalable. No, rather they must find a way to lower operating expenses.

In these restaurants, you will see unclean bathrooms, health inspectors will find vermin in the kitchens and refrigerated sections, they will find cheaper quality foods, and they will let go of competent serving staff to get less trained and skilled staff. Ultimately things will spiral downward and eventually their drive to have more ‘competitive pricing’ will force them out of business.

The Makings Of A Solid HVAC Company

Now let’s look at our industry, contracting. This applies to general contracting, plumbing, electrical, handyman, and HVAC like us. What does ‘Your prices are not competitive.’ Really mean?

Premier HVAC equipment from Trane

The first thing is the price of equipment (in our case Trane and Mitsubishi). In our case we are premier dealers in both these brands so we indeed do get best pricing. However, when it comes to materials and service parts, we always go the route of OEM (original equipment manufacturer), which does cost considerably more than generic components. When it comes to labor, we have the highest paid technicians and installers in the county (if not the entire Puget Sound) and provide not only a living wage, but full family medical/dental and a very generous union retirement, along with first rate training through our Local #66 Journeyman-Apprentice training center.

We Do The Job Right

We also strive for 100% customer satisfaction, and stand-by and warrant all our installations and service calls. We also tell our field personnel not to take any short-cuts, to do the job right, as if it were a family member. We also have a well-compensated staff in the office to respond to your phone calls, answer your questions promptly and schedule personnel in an expedient manner.

If someone is focused on a ‘competitive price’ and all contractors are really apples-and-oranges, what is it that you want us to do to be more ‘competitive’? Take short cuts? Send out less qualified personnel? Use generic parts? Reduce office staff and take longer to respond to your needs? Folks, any focus on ‘competitive’ pricing is the road to unhappy clients and eventual bankruptcy.